Alternative Investment Opportunities In Real Estate For Individual Investors

Alternative Investment Opportunities in Real Estate for Individual Investors by Jeffrey D. Harper B.S.B.A, Finance and International Business Saint Louis University Submitted to the Program in Real Estate Development in Conjunction with the Center for Real Estate in Partial Fulfillment of the Requirements for the Degree of Master of Science in Real Estate Development at the Massachusetts Institute of Technology September 2011 ©2011 Jeffrey D. Harper All rights reserved The author hereby grants to MIT permission to reproduce and to distribute publicly paper and electronic copies of this thesis document in whole or in part in any medium now known or hereafter created. Signature of Author_________________________________________________________ Center for Real Estate July 29, 2011 Certified by_______________________________________________________________ W. Tod McGrath Lecturer, Center for Real Estate Thesis Supervisor Accepted by______________________________________________________________ David Geltner Chair, Interdepartmental Degree Program in Real Estate 1 Alternative Investment Opportunities in Real Estate for Individual Investors by Jeffrey D. Harper Submitted to the Program in Real Estate Development in Conjunction with the Center for Real Estate on July 29, 2011 in Partial Fulfillment of the Requirements for the Degree of Master of Science in Real Estate Development ABSTRACT This thesis will evaluate whether an unsatisfied need to access private commercial market real estate investment opportunities exists on the behalf of individual investors via their Individual Retirement Accounts (IRAs) and 401(k)s and, if so, what the optimal investment structure is to accommodate that need given certain investment parameters. Institutional Investors, with few exceptions, maintain some percentage of their investment portfolios in commercial real estate assets. That allocation to real estate assets can be achieved in any combination of the following investment vehicles: direct ownership (separate accounts), public real estate investment trusts (REITs), closed and open-ended commingled private equity funds, and joint ventures with local partners or developers. According to the Pension Real Estate Association (PREA), the average institutional investor currently allocates approximately 9% of its investment portfolio to real estate, with public REITs only serving as 5% of that allocation. The remaining 95% is composed of direct investment, closed and open-ended commingled funds, and joint ventures. Institutional investors have a long time horizon and a myriad of resources at their disposal to optimize their asset allocations. But can individual investors with similar long-term liabilities replicate institutional real estate strategies within their own retirement portfolios? Individual investors are increasingly becoming their own fiduciaries through defined contribution programs; defined benefit plans’ percentage of total retirement assets in the US has been in significant decline for decades, with no sign of reversal. Real estate is an important asset class for pension plans in terms of providing current yield, inflation protection and diversification; it should be equally important in individual investors’ portfolios. This thesis argues that one way for individual investors to efficiently gain private market commercial real estate investment exposure is through a multi-manager core fund held within a collective investment trust. Thesis Supervisor: W. Tod McGrath Title: Lecturer 2 Acknowledgements First and foremost, I would like to thank Sadie for tolerating me through a few high-workload periods over the last year. Without her love and support, I wouldn’t have made it this far. Additionally, while officially on sabbatical, Professor David Geltner has still been characteristically quick to respond to my many emails and questions. Thank you. Your knowledge and enthusiasm for real estate finance amazes me. There are too many industry participants to thank (and some who prefer to remain anonymous), but I’m especially grateful to Leslie Greis, my industry advisor, who quickly identified the major issues and pushed me to explore them further. Last, but certainly not least, I would like to acknowledge Tod McGrath. It only took ten requests before Tod agreed to advise me. Tod, thank you for your encouragement, guidance, knowledge, and relationships in the industry. 3 Table of Contents ACKNOWLEDGEMENTS ......................................................................................................................3 INTRODUCTION .................................................................................................................................6 CHAPTER 1: WHY REAL ESTATE? ........................................................................................................7 WHAT ARE THE BENEFITS OF OWNING REAL ESTATE WITHIN A PORTFOLIO?...........................................................7 CHAPTER 2: INSTITUTIONAL INVESTORS’ ALLOCATION TO REAL ESTATE ............................................14 REAL ESTATE BY VEHICLE TYPES...............................................................................................................14 ALLOCATIONS BY VEHICLE TYPES..............................................................................................................18 CHAPTER 3: CURRENT OPPORTUNITIES FOR INDIVIDUAL INVESTMENT IN REAL ESTATE:....................21 PUBLIC REITS......................................................................................................................................21 NON-TRADED PUBLIC REITS...................................................................................................................24 TENANTS IN COMMON (TIC)...................................................................................................................29 DIRECT OWNERSHIP .............................................................................................................................31 LOCAL DEVELOPERS ..............................................................................................................................34 CHAPTER 4: OPPORTUNITY FOR A NEW VEHICLE?.............................................................................38 ASK THE EXPERTS; RESULTS OF INTERVIEWS WITH FAMILY OFFICES, TRUST ATTORNEYS, PEREEXECUTIVES................38 RESULTS OF ENTRUST SURVEY.................................................................................................................39 HOW BIG IS THE MARKET?......................................................................................................................41 POTENTIAL ALLOCATION TO REAL ESTATE ..................................................................................................42 CHAPTER 5: SELF-DIRECTED IRAS & 401(K)S; THE PANACEA FOR INDIVIDUAL INVESTMENT IN REAL ESTATE. ...........................................................................................................................................45 WHY ONE CANNOT OWN REAL ESTATE OR PARTNERSHIPS IN HIS CURRENT IRA AND 401(K)?..................................45 HOW SELF-DIRECTED ACCOUNTS WORK?...................................................................................................46 RESTRICTIONS AND OBSTACLES ................................................................................................................47 CHAPTER 6: OBSTACLES AND OBJECTIONS........................................................................................50 LIQUIDITY NEEDS..................................................................................................................................50 VALUATIONS.......................................................................................................................................55 SECURITIES REGULATIONS ......................................................................................................................57 BLIND POOL........................................................................................................................................62 CREDIT ..............................................................................................................................................62 TAX CONSIDERATIONS...........................................................................................................................63 EMPLOYEE RETIREMENT INCOME SECURITY ACT (ERISA)...............................................................................64 DISTRIBUTION .....................................................................................................................................64 4 ADVISORY NEEDS.................................................................................................................................65 FEES .................................................................................................................................................65 CHAPTER 7: NEW PRODUCT DEVELOPMENT: WHAT IS NEXT?............................................................67 NEW VEHICLE: WEB-BASED SELF-ALLOCATION ............................................................................................67 NEW VEHICLE: DIRECT INVESTMENT .........................................................................................................68 NEW VEHICLE: FUND OF FUNDS...............................................................................................................72 PROPOSED VEHICLE: COLLECTIVE INVESTMENT TRUST CORE FUND FOR 401(K)S..................................................74 CONCLUSION...................................................................................................................................77 BIBLIOGRAPHY.................................................................................................................................79 APPENDIX 1: ENTRUST SURVEY QUESTIONS AND REPONSES.............................................................81 FIGURE 1: NCREIF PROPERTY INDEX ANNUAL RETURNS (94 - 2010) .....................................................7 FIGURE 2: CURRENT YIELD COMPONENT.............................................................................................9 FIGURE 3: EFFICIENT SET WITH REITS, PRIVATE REAL ESTATE AND BOTH............................................12 FIGURE 4: US INSTITUTIONS` REAL ESTATE ALLOCATION (% OF TOTAL)..............................................19 FIGURE 5: RETIREMENT ASSETS BY SOURCE......................................................................................41 FIGURE 6: RETIREMENT ASSETS BY SOURCE (%) ................................................................................42 TABLE 1: RETURNS, VOLATILITY AND RISK ADJUSTED PERFORMANCE (QUARTERLY 2Q94 TO 2Q10) ....8 TABLE 2: ASSET CLASS CORRELATION (QUARTERLY 2Q94 TO 2Q10) ...................................................11 TABLE 3: PREA U.S. MEMBERS ONLY—REAL ESTATE INVESTMENT STRUCTURE (% PRIVATE ONLY) .....18 TABLE 4: FEE SCHEDULE OF NON – TRADED REITS .............................................................................27 5 ... - tailieumienphi.vn